Charitable Deduction Due to a Partial Disclaimer

The
Eighth Circuit upheld the Tax Court’s decision to allow a charitable
deduction involving a disclaimer by an heir of a portion of her
interest in an estate. The Tax Court had held the disclaimer was not
qualified under IRC § 2518
with respect to property that passed to a charitable lead trust, but
was qualified with respect to property passing directly to a private
foundation that was also the lead beneficiary of the trust. The
courts also allowed an increased charitable deduction by the estate
based on an increased valuation of the gross estate after
examination by the IRS.

Helen
Christiansen died in April 2001, leaving all of her assets to her
only child, Christine Hamilton. Her estate plan anticipated that
Hamilton would disclaim a portion of her inheritance in favor of a
charitable trust and a charitable foundation. The Helen Christiansen
Testamentary Charitable Lead Trust was set up to last for 20 years,
with any remaining assets then passing to Hamilton if she survived.
During its existence, the trust would pay an annuity of 7% of the
corpus’s net fair market value, as determined at the decedent’s
death, to the Matson, Halverson, Christiansen Foundation, which
qualified as a charitable organization under section 501(c)(3).

As
anticipated, Hamilton disclaimed the amount of the estate’s fair
market value in excess of $6,350,000. The main amount passed to the
charitable foundation and the charitable trust. Hamilton did not
disclaim her contingent interest in the charitable trust, and
consequently, no deduction was allowed for the property passing to
the charitable trust as a result of the partial disclaimer. The
partial disclaimer was not a qualified disclaimer under section 2518.

After
an IRS audit of Christiansen’s estate tax return, the fair market
value of some of the assets was increased, increasing the gross
estate from $6,512,223 to $9,578,895 and increasing the amount
passing to the foundation. The IRS, however, disallowed a
corresponding increase in the charitable deduction, saying the
amount was dependent on a “precedent event” in violation of Treas.
Reg. § 20.2055-2(b)(1).
The Tax Court disagreed and allowed the increased charitable deduction.

On
appeal, the Eighth Circuit agreed with the Tax Court and rejected
the IRS’ interpretation of Treas. Reg. § 20.2055-2(b)(1). The
regulation pertains to a transfer at the date of death rather than
its final accounting valuation, the courts noted.

The
IRS did not distinguish between post-death events that change the
value of the estate versus those that are merely part of the legal
or accounting process of determining the date-of-death values.
Treas. Reg. § 20.2055-2(e)(2)(vi)(a) recognizes that references to
values “as finally determined for federal estate tax purposes” are
sufficiently certain to be considered “determinable” for the
purposes of qualifying as a guaranteed annuity interest. References
to value “as finally determined for estate tax purposes” are not
references dependent upon post-death contingencies that might
disqualify a disclaimer. Here, the only uncertainty was the amount
the foundation was to receive in excess of $6.35 million.

The
IRS also argued that the court should disallow fractional
disclaimers that have a practical effect of disclaiming all amounts
above a fixed-dollar amount. According to the IRS, such disclaimers
fail to preserve a financial incentive to audit an estate’s tax
return. By allowing the disclaimer, any post-challenge adjustment to
the value of an estate could consist entirely of an increased
charitable deduction. This provides no possibility of enhanced tax
receipts as an incentive to audit the tax return. The IRS argued
such disclaimers should be disqualified as against public policy.

The
Eighth Circuit also disagreed with this argument. The IRS’ role is
to enforce the tax laws, not to maximize tax receipts, it said,
adding that there was no clear evidence of congressional intent to
maximize incentives for the IRS to audit tax returns.

Prepared
by Gary D. Rider, J.D., instructor of business, and
Darlene Pulliam, CPA, Ph.D., McCray professor of business
and professor of accounting, both of the College of Business, West
Texas A&M University, Canyon, Texas.

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